May 28, 2009

China, North Korea’s closest ally which has previously been reluctant to press the Stalinist state too hard, said it was “resolutely opposed” to the test. China has been concerned that putting too much pressure on North Korea could cause the regime to collapse, sending hundreds of thousands of refugees across the border.

Moscow estimated that the blast ranged from 10 to 20 kilotons – similar to the atomic bombs dropped on Hiroshima and Nagasaki – and much larger than the device North Korea detonated in 2006.

But a senior US official said preliminary data suggested that the yield was “approximately a few kilotons”. He added that North Korea had on Sunday informed the US – without providing the timing – that it planned on conducting a test.

South Korea’s state-run National Pension Service plans to resume overseas investments next month, encouraged by the won’s sharp appreciation against the dollar.

The world’s fifth-largest pension fund, with about $189bn in assets under management, abruptly reversed course on plans to increase its overseas and equities exposure last year due to uncertainties arising from the global financial crisis.

“Last year, we suspended overseas investments due to the volatility of the Korean won against the dollar,” said Park Hae-choon, chief executive of the pension fund,

“The domestic market is not big enough for the pension fund to invest and that’s why we plan to increase overseas investments,” Mr Park said, adding that an investment committee will meet next week to decide where and how much to invest.

The pension fund owns stakes of more than 5 per cent in 107 Korean companies, including Samsung Electronics and Posco

The fund made a small profit on its assets last year as its focus on bonds protected it from volatile international markets.

The dollar rallied strongly after the collapse of Lehman Brothers last September as massive deleveraging sent investors scrambling for the safety of the currency and US assets.

The main casualties were emerging market and commodity linked currencies as investors braced themselves for a collapse in the global economy.

But signs of stabilisation, combined with rallying equities and reduced volatility, have soothed investors’ nerves

China, the world’s largest reserve holder, has repeatedly voiced its concerns over the value of the dollar and, along with Russia, the world’s third largest reserve holder, has urged a move away from the dollar as the world’s reserve currency.

Such a move is unthinkable in all but the very long term. But this highly-sensitive issue might chip away at the dollar, as witnessed by the attention given to reports this week that trade between Brazil and China might soon be transacted in real and renminbi.

An official from the China banking regulatory commission suggested this week that the renminbi could become a bigger reserve currency, accounting for 3 per cent of global reserves by 2020.

The economics ministry did not comment in detail on the Porsche decision, but those close to the talks said Berlin was reluctant to help Porsche at least partly because the car group was better placed than other German manufacturers to tap financial markets for funds.

The government is facing demands for help from across German industry. Arcandor, the ailing German department store operator, is seeking loan guarantees

To qualify for aid from the German government’s €115bn credit and loan-guarantee fund companies must prove they were not in economic difficulties before 30 June 2008 and would have good economic prospects when the crisis is over.

They must also show that they have exhausted all possible sources of credit and that they have an important regional, innovation or supply chain function

“Demand is still a question. But as long as things are not getting much worse than they are, especially if the normal seasonality of demand picking up in the second half stays true, we should be able to turn all businesses into profit by the third quarter,” said Robert Yi, head of investor relations at Samsung of Korea.

The seasonality of technology demand is an important reason why companies are reluctant to call a recovery now. Japanese electronics companies, such as camera and watchmaker Casio, have issued relatively upbeat forecasts, but all depend on strong sales for the Christmas shopping season

One positive sign is that companies at the bottom of the supply chain, which sell most directly to consumers, are more optimistic than makers of components or industrial equipment. In Japan, for example, consumer electronics companies such as Sony and Sharp have given more positive outlooks than NEC, which mainly sells to other businesses, and Hitachi, which has a large automotive electronics division.

Europe’s biggest airline, measured by passenger traffic, disclosed this week it had fallen into loss for the first time in more than a decade – the last loss was in 1996-97. Shareholders will receive no dividend for the first time since Air France was partially privatised in 1999.

Investors responded to the release of the results by giving the share price its biggest one-day boost for 18 months, however, with a rise of 11 per cent, relieved that the fourth-quarter loss was lower than previously forecast and that the airline was proving surprisingly successful in cutting its costs

In addition to cutting capacity Mr Gourgeon is also managing to reduce employee numbers, a notoriously difficult task particularly in the French part of the group, which was a byword for labour strife in much of the 1990s and where industrial relations remain prickly.

Since the beginning of the economic crisis the headcount has come down by 3.6 per cent from 111,300 at the end of September to 107,300 at the end of March. A further cut of about 3 per cent is planned this year, helped by a hiring freeze and early retirement schemes.

The group is also trying to preserve cash by delaying the delivery of new aircraft and shrinking planned capital expenditure.

Sterling was volatile yesterday and reversed early weakness after Standard & Poor’s cut the outlook for the UK from “stable” to “negative”.

The credit rating agency cited mounting government debt and political uncertainty about how to respond to the economic downturn but affirmed the country’s top long-term sovereign debt ratingRobert Lynch, at HSBC, noted that, while the S&P news was negative for the pound, at least in the short-term, it could have a positive impact in motivating the UK government’s fiscal disciplin

There was concern over outlooks for other leading nations being downgraded, specifically the US, as fears of fiscal deterioration grew

Better than expected eurozone purchasing managers’ indices, which were the highest in eight months, suggested that the pace of economic contraction in the eurozone for the second quarter may not be as bad as feared

China’s steel industry faces a historic moment of truth as it threatens to abandon the traditional “benchmark” for annual iron ore pricing in an apparent fit of pique at the refusal of the miners to share their profits.

The anger is palpable in the voice of China’s chief iron ore negotiator, Shan Shanghua of the China Iron and Steel Association, and from the mills: miners are making big profits but China’s steel industry loses money.

The conflict has arisen out of a peculiarity of the iron ore market – for the past 40 years, prices had been settled annually in secretive talks between steelmakers and miners, rather than in the open market, as in other commodities such as crude oil or copper

It was on the back of that increase – seen in China as a humiliation – that Beijing was adamant that, this year, with demand so much lower because of the global financial crisis, it would hold the balance of power. The Chinese side has become increasingly angry as the miners have refused their demands for a 40-50 per cent price cut, which would return prices to the level of 2007, say executives familiar with the talks.

Cisa is not alone in its fight to achieve a large cut. Chinese mills are in a defiant mood, saying they would rather buy cheaper ore on the spot market than accept a benchmark deal with a 30-35 per cent price cut

April output at factories, mines and utilities fell 0.5%, the smallest drop in six months, the Federal Reserve said. Still, production slid 12.5% vs. a year earlier. And actual output was the lowest since December 1998.

Separately, the New York Fed’s Empire State manufacturing index jumped 10.1 points in May to -4.55, the highest since August. Economists expected -12. Figures below zero signal contraction. But the rate of decline has slowed sharply from March’s record-low -38.1.

The shipments gauge actually turned positive. But the new orders gauge fell 5.1 points to -9.0

The economy in both the 16-member euro area and the 27-nation European Union shrank 2.5% in Q1 — not annualized — the EU said Friday. That’s far worse than the U.S.

Data this week will likely show that Japan’s GDP shrank at a double-digit pace for a second quarter.

In the U.S., April manufacturing output fell 0.3% after tumbling 2.1% in March. Auto output rose 0.9%, its third straight gain after plunging 20.5% in January. But U.S. automakers will soon enter extended summer shutdowns.

“If you think the nation’s industrial base is in bad shape now, wait until we get the impacts of the vehicle sector downsizing,” Joel Naroff, president of Naroff Economic Advisors, said in a note.

Consumer durables output rose 0.8%. But production of business equipment fell 0.6% in April after plunging 2.8% in March, signaling continued weak investment. Construction supplies sank 1.1% after March’s 2.9% dive.

Meanwhile, April consumer prices were flat after March’s 0.1% dip as food and energy costs fell again, Labor said Friday. Rising unemployment has kept a lid on wages and consumer spending, preventing firms from raising prices.

Overall prices sank 0.7% from a year ago, the most since 1955. Energy costs tumbled 25%. Crude futures, near $56 now, are less than half their year-ago levels.

“They’re afraid of the dollar, and they’re afraid of the new (Obama) administration,” he said. “Japanese investors are sticking with Asia, and European money is moving to the euro zone and Swiss issues.”

As in the U.K., government debt as a share of GDP is soaring in the U.S. But are we in the same boat?

“Yes, but the U.S. has the potential to grow out of it faster than the U.K.,” said Paul Kasriel, chief economist at Northern Trust.

The U.S. economy is big and diverse — technology, aircraft, agriculture, a wide array of goods and services. When this world crisis passes, export demand will surge.

The U.K. economy relies heavily on its financial sector, “concentrated in a few blocks in London.”

“The message here is that government bond yields in the industrialized nations will be moving higher in the next five years, especially in the U.S. and the U.K.,” Kasriel said.

Loan defaults in the worst U.S. commercial real estate market in decades have led to tens of billions worth of distressed properties, forcing cut-rate auctions of landmarks. Developers fall behind on mortgages as tenants leave and can find no financing to pay loans, analysts say.

So they are selling skyscrapers at drastic discount, requiring buyers to take on the enormous amounts of debt connected to the properties.

“Just imagine in a residential market, if there weren’t 80% loans available for everyone. If everyone had to buy their houses in cash, the values of houses would plummet everywhere,” said Dan Fasulo, a managing director at Real Capital Analytics. “That’s happening on a massive scale on the commercial side.”

Despite early encouraging signs, housing is unlikely to rebound quickly with so many unsold homes and foreclosures at record highs, housing analysts say. April’s foreclosure rate jumped 32% vs. a year ago, foreclosure listings site RealtyTrac says.

“New homes will have to compete with the vacant homes from foreclosures, which need to be purchased to work down inventory,” he said. “But people won’t buy anything if they’re nervous about losing their jobs.”

After providing massive and ongoing aid to banks and automakers, Uncle Sam might cosign local governments’ borrowing if a key lawmaker has his way.

House Financial Services Committee Chairman Barney Frank, D-Mass., says his plan to reinsure municipal bonds would be a low-risk way to make it cheaper and easier for cities and related agencies to raise funds that have grown scarce amid the credit crunch.

But critics argue it could put federal taxpayers on the hook for greater risk.

“Having a federal guarantee creates more moral hazard on the municipal level,” said George Liebmann, executive director of the conservative Calvert Institute for Policy Research.

Reinsuring muni bonds, he says, could lead bond insurers to back riskier debt and local governments to engage in unsustainable spending.

Even after the severe recession passes, relieving pressure on public financials, the longer-term outlook is not much better. Hundreds of cities and counties across the country face huge pension and health care costs for retirees. And that’s only going to get worse as baby boomers retire.

A 2008 GAO study found that 58% of large public pension funds were at least 80% funded. And stock values have plunged since then. Meanwhile, state and local retiree health care liabilities could be more than $1 trillion in present value.

A muni debt guarantee could curb what little drive local officials have to tackle their unfunded liabilities. And it would preserve public employees’ generous retirement packages, another fillip from Democrats to their labor allies.

Frank also wants ratings agencies to rate bonds based on default risk. Municipal bonds tend to have far lower default rates than corporate bonds with the same rating.

Although S&P lowered its outlook to negative, it affirmed its AAA long-term and A-1+ short-term sovereign credit ratings. S&P based its warning on a forecast that UK net government debt risked approaching 100 per cent of national income and staying at that level. “A government debt burden of that level, if sustained, would in Standard & Poor’s view be incompatible with an AAA rating.”

A loss of the top credit rating could raise the costof financing Britain’s national debt, straining public finances and adding to pressure on Gordon Brown’s administration to bring borrowing down faster than planned.

The U.S. dollar has fallen 10 percent since reaching a three-year high in March. Gold is up, commodities are up, and crude oil prices have roughly doubled this year. And the possibility of a debt downgrade for Britain, one of the few nations with a triple-A credit rating — has shown that no currency is invulnerable.Higher mortgage costs: Treasury securities leaped this week to a fresh high, about 4.4 percent for 30-year Treasurys. If that trend continues, expect 30-year mortgage rates to increase as well (otherwise investors would simply buy safer Treasurys). Imagine what significantly higher mortgage costs would do to housing prices that have, in some areas of the country, already been decimated.

A dollar that’s worth less: Exports become cheaper, while imports become more expensive. All else being equal, gasoline prices go up. So do other commodities — meaning that we’d likely resume the upward pay-more-for-food and pay-more-at-the-pump trend that was evident about a year ago.

A stock market and bond market crash: If investors start to view inflation and a devalued dollar as inevitable, it could result in a broad sell-off of stocks and bonds, and a flight of capital to other assets and currencies. (Swiss francs might become more attractive.) Inflation expectations are important. John Taylortold the U.S. Congress in February. “With the economy in a weak state and commodity and many other prices falling, inflation is not now a problem, but at some time the Federal Reserve will have to remove these reserves or we will have a large increase in inflation.”

“The question is whether the Fed will be able to reduce the reserves in time and whether people will expect the Fed to do so,” Taylor said (see CBSNews.com’sreview of his recent book on the crash). The Fed “will have to sell a huge amount of securities backed by consumer credit, mortgages, student loans, and auto loans. This will be difficult to do politically.

Yale’s endowment produced an average annual return of 16.3 percent in the 10 years ended June 30, compared with 13.8 percent for Harvard, which is in Cambridge, Massachusetts. The average for U.S. and Canadian schools was 6.5 percent, according to the Washington-based National Association of College and University Business Officers.

Yale had 10 percent of its assets allocated to U.S. stocks, bonds and cash as of June, compared with 75 percent in 1988, according to the school’s annual report. Real assets such as oil, gas, timber and real estate, seen as a hedge against inflation, made up 29 percent of the portfolio. Twenty-five percent was devoted to absolute-return strategies such as hedge funds, with 20 percent in private equity. The remainder of the portfolio was held in stocks outside the U.S

Endowment income is one of the main revenue sources for colleges and universities, along with tuition, public financing and gifts. In the year starting in July, Yale plans to cut endowment spending by 6 percent, while Cornell University will scale back by 15 percent and Harvard by 8 percent

Yale’s endowment supports 44 percent of the university budget this fiscal year, up from 18 percent in 1998. The school plans to cut salaries and benefits for non-faculty staff by 7.5 percent in fiscal 2010, deeper than the 5 percent the school had planned in December.

Big changes will not happen quickly. The dollar’s position is the result of powerful economic realities, not the decision of a room full of bureaucrats. But China is putting down some important long-term markers and all of a sudden, the dry arena of international financial arrangements has become loaded with the symbolism of economic power shifting from west to east

The government has been stung by domestic criticism of its $2,000bn (€1,440bn, £1,250bn) in foreign exchange reserves, about 70 per cent of which are invested in US government securities.

Why is a country that is still poor, people are increasingly asking, lending so much money to a rich country – especially when officials warn constantly about a possible slump in the dollar. Beijing has also reacted angrily to anyone who suggests its huge build-up in foreign currency reserves contributed to the orgy of liquidity in global financial markets

Some of the outrage is understandable – who does not believe that profligacy in the US was at the heart of the crisis? Yet China’s huge exposure to the dollar is partly a trap of its own making

If the Chinese currency had appreciated more rapidly in recent years, the economy might not have experienced such turbo-charged growth rates, but its reserves would not have exploded so quickly and the much-needed shift to domestic demand would be more advanced

China’s international leverage would also be enhanced if it could lend money overseas in its own currency- to the US, for instance. But until China has a deep and open bond market where interest rates are set by the market and not the government, there will be only limited takers for such renminbi assets.

“The days when a chief financial officer could go and have a long lunch on Friday with the bank manager to extend credit lines are gone,” says Eirik Winter from Citigroup in London.

Instead would-be borrowers are increasingly being told by their banks to seek their long-term funding elsewhere, in particular from in the bond markets. As a result the once humdrum world of European corporate bonds, has become one of the hottest areas of finance, with the number of new issues hitting record levels.

May 23, 2009

“You don’t have to do this.” Those are the near-last words of several victims in the Coen brothers’ classic film No Country for Old Men, as they try to convince the movie’s unrelenting assassin that he should spare them. The assassin, played by Javier Bardem, finds this annoying, because in his mind these murders are pre-determined.

So it is with the IMF’s continuing confrontations with its borrowers, with one government after another pleading: “You don’t have to do this.” Turkey and Latvia were in the news last week, having joined the roster of governments whose IMF disbursements are being withheld because they find it politically impossible to impose the required punishments on their citizens.

The IMF sees these measures as necessary and pre-determined – in most cases by the borrowing countries’ having run-up unsustainable external or budget imbalances. But in fact the IMF has a long track record – dating back decades – of imposing unnecessary and often harmful conditions on borrowing countries.

Latvia missed a 200 million euro disbursement from the IMF in March for not cutting its budget enough. According to press reports, the government wants to run a budget deficit of 7% of GDP for this year, and the IMF wants 5%. Latvia is already cutting its budget by 40%, and is planning to close some public hospitals and schools in order to make the IMF’s targets, prompting street protests.
Latvia’s GDP crashed by 18% in the first quarter of this year, after a 10.3% drop in the preceding quarter. These are among the worst declines in the world. This indicates that the IMF’s prescription is serious overkill. The purpose of IMF aid is supposedly to make any necessary adjustment easier, not worse.

In Pakistan, it would be surprising if the US Treasury, which is the principal overseer of the IMF, did not see a need to ease up on the contractionary IMF conditions there. The government of nuclear-armed Pakistan is facing serious political problems right now, having recently launched a major offensive against a growing Taliban insurgency. Slowing Pakistan’s economy at a time when the global economic crisis is already doing that may not be the best policy from the point of view of political stability. The IMF has negotiated an increase in Pakistan’s fiscal deficit from 3.4% to 4.6% of GDP, but is holding the line against lowering interest rates.

In almost all of its standby arrangements negotiated over the last year, the IMF has included conditions that will reduce output and employment in situations where economies are already shrinking.

Yet here in Washington there is a rush to get the IMF more money without any congressional hearings or debate. We are told that poor countries will suffer if the IMF does not get a $108bn appropriation from Congress immediately. But this is nonsense.

If we add up all of the IMF’s commitments under the 16 standby arrangements negotiated since the crisis intensified last year, the total is less than $46bn. The poorest countries will not be allowed to borrow anywhere near that amount.

The IMF already has $215bn on hand, plus more than $100bn in gold reserves. It plans to create another $250bn in SDR’s, ie the IMF’s currency. Even if we include the $67.5bn that Mexico ($47bn) and Poland ($20.5bn) together can tap under the IMF’s flexible credit line, it is clear the IMF is trying to get hundreds of billions of dollars more than it is likely to need. And it has at least ten times the money that the poor countries – whose needs are pocket change compared to IMF resources – will ever be allowed to borrow.

Yet the Obama administration, in a surprise move out of nowhere on Tuesday, decided to try and attach the $108bn for the IMF to another spending bill in order to circumvent the normal legislative process. The reason for this stealth maneuver is that they might run into trouble in the House, where legislators are wary of voting for multi-billion blank cheques after the backlash against the Tarp financial bailout. They will try to convince Congress to approve this money without hearings or debate with the idea that it must be done in order to save poor people in poor countries.

Congress should be met with a chorus of opposition: “You don’t have to do this.”

An index measuring the strength of the dollar against six major currencies closed at its lowest level of the year. The dollar’s retreat gathered pace after the Fed minutes showed some policymakers raised the prospect that the central bank might step up its asset purchases to boost the recovery. Such purchases would be made by creating money.

As the dollar fell, oil gained nearly two dollars to close above $62 a barrel…

Some economists worry that the current phase of the crisis – in which panic is receding but economic weaknesses remain severe – could test the ability of the US to attract external finance. At the peak of the crisis in late 2008, the US dollar and US government bonds were buoyed by safe-haven buying by fearful investors around the world. Now, there is a less automatic bid for dollars and US government bonds, forcing the US to compete for global capital…

Gold jewellery demand fell to its weakest level in almost 20 years in the first quarter of 2009 while recycling of scrap reached record levels as the global economy sank deeper into recession.

“Recycling of gold became a global phenomenon in the first quarter of this year,” said Rozanna Wozniak, investment research manager of the World Gold Council: “The wave of recycling activity clearly shows that used jewellery is not a ‘waste’ product.

Jewellery demand fell by almost a quarter compared with the same period in 2008 to 339.4 tonnes. But this was outweighed by massive inflows from financial investors. Inflows into gold exchange-traded funds reached 465.1 tonnes in the first quarter, up 540 per cent on the same period last year. This helped push total gold demand up 38 per cent to 1,015.5 tonnes in the first quarter of 2009 compared with the same period in 2008

The weakness in the dollar and rally in commodities extended after the release of the Federal Reserve’s minutes from its policy meeting last month on Wednesday afternoon, where the prospect of increasing purchases of Treasury bonds was raised.

The central bank also reduced its outlook for growth over the next few years and expects higher unemployment and rising prices. That dour outlook pushed US equities into negative territory…

Japanese equities were not adversely impacted by the figures – the Nikkei 225 Average rose 0.6 per cent, and several Asian markets hit fresh multi-month highs

Credit default swap indices in Europe narrowed, led by riskier credits, but the tone in the US reversed as Wall Street turned negative.

Currency markets saw the dollar slide to four-month lows against the euro, while on a trade-weighted basis, the dollar closed at its lowest level since late December as its safety appeal continued to wane.

Commodity currencies made particularly strong gains against the dollar. Sterling touched a five-month high against the greenback, while the yen rallied more than 1 per cent.

US government bond prices rebounded from negative territory on Wednesday afternoon after the Fed’s April meeting minutes revealed that officials discussed buying more than the target bonds beyond their current targets. The 10-year Treasury yield fell 6bp to 3.19 per cent.

The 10-year German Bund yield was flat at 3.51 per cent, while the 10-year UK gilt yield jumped 9bp to 3.58 per cent after the Bank of England paid less than market prices at its latest reverse auction.

Commodity prices staged a broad rally as the dollar weakened with the CRB index closing at its highest level since November. Oil closed above $62 a barrel at a fresh six-month high and gold hit an eight-week peak above $940 a troy ounce.

BofA seeks to repay $45bn by end of year
The US government has the final say on whether and when banks that received Tarp funds are allowed to repay. The authorities have been -concerned that banks’ eagerness to return the money and free themselves from the strict congressional supervision imposed under the programme would see troubled lenders repay funds before they were strong enough to do so….BofA, found to have a capital shortfall of $33.9bn in the regulatory stress tests this month, has since raised $13.5bn of capital by selling common stock and another $4.5bn of after-tax capital from selling a stake in China Construction Bank….

The central forecast among these policymakers is now for unemployment to be between 9 per cent and 9.5 per cent in the final quarter of 2010 and to remain at 7.7-8.5 per cent in the final quarter of 2011. This amounts to a recognition that the recession is proving more devastating for jobs than normal economic relationships would suggest.The Fed staff economists appeared to take a more bullish view than the policymakers at the April meeting, though the apparent difference was amplified by the fact that they were revising up projections for growth made in March rather than January…

Some said they thought “activity in the housing ­market might finally be approaching a trough” and reported “some signs that the decline in house prices might be slowing”. However, they noted that “labour market conditions were still deteriorating” and the “volume of credit extended to households and businesses was still ­contracting”…

Many Fed policymakers judged that “the risk of a protracted period of deflation had diminished”.

But most “expected inflation to remain subdued over the next few years” and saw “some risk that elevated unemployment and low capacity utilisation could cause inflation to remain persistently below” their implicit target rate of 1.7-2 per cent.

France’s young people have been hit hardest by the -economic crisis, with the effects of the downturn compounded by failings in the education system and a high minimum wage, according to a study published yesterday. Unemployment in the 15- to 24-year-old age group has risen much faster than in the rest of the working population, said the Organisation for Economic Co-operation and Development…

The OECD made clear that the problems were structural – the consequence of an education system that allowed too many children to leave school without qualifications, a high minimum wage and labour laws that made it more difficult for young people to move from precarious to more stable jobs…

The minimum wage for a 20-year-old in France, which has no youth rate, is 63 per cent of the median wage, the highest ratio in the OECD, and 19 points higher than the OECD average. While successive governments have tried to offset this by cutting employers’ social charges for young people, the subsidies have “not necessarily promoted the hiring of less-skilled youth”

The Liberal Democratic party-led government has published economic stimulus packages equivalent to almost 5 per cent of GDP – much more than the average for fellow G20 victims of the global recession…

It is unclear whether the economy has hit bottom or is rolling down a slope at the base of the cliff. While most economists are confident that output is no longer in freefall, opinions differ as to whether a sustained revival is imminent. Many see growth graphs over the next year as more likely to resemble a “W” than a “V”….

Prospects are unclear for a sustained rebound in global demand for Japan’s automotive, electronic and other export-oriented sectors, which make up about half of national industrial production.

Applications for food stamps – vouchers for low-income earners that can be used to buy food – have risen 65 per cent in the county in the past year. There has been a similar jump in the number of applications for Medi-Cal, which provides health services for the poor, and other welfare programmes

The state has slashed funding for social programmes and postponed thousands of infrastructure projects – such as school, hospital or highway developments – worth more than $21bn. The projects have been put on ice while legislators try to address the shortfall

The state is in line for a federal bail-out and may receive up to $26bn from the economic stimulus package that passed last week. But the long delay in implementing a new budget has spooked Wall Street and seen California’s credit rating cut to the lowest of any US state. This has made it impossible to sell bonds that are supposed to finance billions of dollars of public works projects that have already been approved by voters.

Tesco’s most valuable market outside Britain is South Korea and its growing presence there illustrates two golden rules of investing in Asia’s fourth-biggest economy: choose an influential local partner and never try to impose Western management systems..Although Samsung has only a 5 per cent shareholding, the company brand is a talismanic symbol of quality for Korean shoppers and its executives were well placed to do the networking required to navigate a course through Korea’s clannish business world…

Seol Do-won, executive director at Homeplus, says Tesco has fared far better than other foreign investors such as Wal-Mart and Carrefour, because it has fully “localised” to the Korean managerial system.

Of Tesco’s 20,000 staff in Korea, only four are expatriates. Although the shareholding is 95 per cent British, the offices of Homeplus in Seoul look exactly the same as any other large Korean corporation.

“Britain’s Tesco was flexible in its mindset and respect for local habits and the local customer and retail situation. Wal-Mart tries to stick to its own system and does not allow a local management style,” he says

Mr Seoul says Homeplus’s cultural centres, where people can take advantage of everything from English classes to violin lessons, are proving a key part of the retailer’s growth strategy, particularly outside Seoul

Oil companies base their operations in some of the most hostile countries on earth. In the worst cases, their employees are in danger of kidnapping and their businesses of expropriation. Even less obviously risky countries are only one step removed from existential danger. An investor in, say, a call centre in Hyderabad, cannot be expected to account for the fact that India and Pakistan, two deeply suspicious neighbours, have nuclear warheads pointed at one another

When it comes to investing in South Korea, the risks associated with North Korea are binary in nature. Either, as up to now, Pyongyang’s sabre-rattling will prove so much bluster, and predictions of the regime’s imminent demise so much wishful thinking (or scaremongering). Alternatively, Pyongyang will carry out its threats, or the communist regime will collapse with all the risks those scenarios entail…

Such caution is understandable. Even if the two Koreas managed the process smoothly, the marriage of an advanced, high-tech economy with one stuck, ideologically and economically, in the past would put enormous strain on political and economic resources. Present economic setbacks notwithstanding, Seoul wants to climb the list of wealthy nations. But absorbing North Korea would instantly push it down 13 places, giving it a gross domestic product per capita of roughly $13,600 (versus $20,000 now), putting it between Barbados and Poland

China too is invested in the status quo. Beijing plays an ambiguous role as North Korea’s chief patron and protector. Precisely because of that, it is the country with most leverage over Pyongyang. Yet forcing the collapse of a one-party state, even one as disreputable as North Korea’s, would not set a helpful precedent. Nor can China ignore the potential for disruptive flows of refugees, particularly given that China already has millions of ethnic Koreans living in regions bordering North Korea. So uncomfortable are Beijing’s leaders at the prospect of sudden change in Pyongyang that Chinese academics speculate Beijing would prefer a nuclear North Korea to a failed North Korean state.

May 20, 2009

Just how much government debt does a president have to endorse before he’s labeled “irresponsible”? Well, apparently much more than the massive amounts envisioned by President Obama. The final version of his 2010 budget, released last week, is a case study in political expediency and economic gambling.

Let’s see. From 2010 to 2019, Obama projects annual deficits totaling $7.1 trillion; that’s atop the $1.8 trillion deficit for 2009. By 2019, the ratio of publicly held federal debt to gross domestic product (GDP, or the economy) would reach 70 percent, up from 41 percent in 2008. That would be the highest since 1950 (80 percent). The Congressional Budget Office, using less optimistic economic forecasts, raises these estimates. The 2010-19 deficits would total $9.3 trillion; the debt-to-GDP ratio in 2019 would be 82 percent.

But wait: Even these totals may be understated. By various estimates, Obama’s health plan might cost $1.2 trillion over a decade; Obama has budgeted only $635 billion. Next, the huge deficits occur despite a pronounced squeeze of defense spending. From 2008 to 2019, total federal spending would rise 75 percent, but defense spending would increase only 17 percent. Unless foreign threats recede, military spending and deficits might both grow.

Except from crabby Republicans, these astonishing numbers have received little attention — a tribute to Obama’s Zen-like capacity to discourage serious criticism. Everyone’s fixated on the present economic crisis, which explains and justifies big deficits (lost revenue, anti-recession spending) for a few years. Hardly anyone notes that huge deficits continue indefinitely.

One reason Obama is so popular is that he has promised almost everyone lower taxes and higher spending. Beyond the undeserving who make more than $250,000, 95 percent of “working families” receive a tax cut. Obama would double federal spending for basic research in “key agencies.” He wants to build high-speed-rail networks that would require continuous subsidy. Obama can do all this and more by borrowing.

Consider the extra debt as a proxy for political evasion. The president doesn’t want to confront Americans with choices between lower spending and higher taxes — or, given the existing deficits, perhaps both less spending and more taxes. Except for talk, Obama hasn’t done anything to reduce the expense of retiring baby boomers. He claims to be containing overall health costs, but he’s actually proposing more government spending (see above).

Closing future deficits with either tax increases or spending cuts would require gigantic changes. Discounting the recession’s effect on the deficit, Marc Goldwein of the Committee for a Responsible Federal Budget puts the underlying “structural deficit” — the basic gap between the government’s spending commitments and its tax base — at 3 to 4 percent of GDP. In today’s dollars, that’s roughly $400 billion to $600 billion.

It’s true that since 1961 the federal budget has run deficits in all but five years. But the resulting government debt has consistently remained below 50 percent of GDP; that’s the equivalent of a household with $100,000 of income having a $50,000 debt. (Note: Deficits are the annual gap between government’s spending and its tax revenue. The debt is the total borrowing caused by past deficits.) Adverse economic effects, if any, were modest. But Obama’s massive, future deficits would break this pattern and become more threatening.

At best, the rising cost of the debt would intensify pressures to increase taxes, cut spending — or create bigger, unsustainable deficits. By the CBO’s estimates, interest on the debt as a share of federal spending will double between 2008 and 2019, to 16 percent. Huge budget deficits could also weaken economic growth by “crowding out” private investment.

At worst, the burgeoning debt could trigger a future financial crisis. The danger is that “we won’t be able to sell [Treasury debt] at reasonable interest rates,” says economist Rudy Penner, head of the CBO from 1983 to 1987. In today’s anxious climate, this hasn’t happened. American and foreign investors have favored “safe” U.S. Treasurys. But a glut of bonds, fears of inflation — or something else — might one day shatter confidence. Bond prices might fall sharply; interest rates would rise. The consequences could be worldwide because foreigners own half of U.S. Treasury debt.

The Obama budgets flirt with deferred distress, though we can’t know what form it might take or when it might occur. Present gain comes with the risk of future pain. As the present economic crisis shows, imprudent policies ultimately backfire, even if the reversal’s timing and nature are unpredictable.

The wonder is that these issues have been so ignored. Imagine hypothetically that a President McCain had submitted a budget plan identical to Obama’s. There would almost certainly have been a loud outcry: “McCain’s Mortgaging Our Future.” Obama should be held to no less exacting a standard.

DELICATE bamboo shoots are starting to appear in Asia beyond China, within countries that buy 27 per cent of Australia’s exports.– the Australian Business

With China — which is tentatively rebuilding a growth momentum — now buying about 20 per cent of exports, this means about half of Australia’s key trading partners are showing signs of stabilising, if not recovering, earlier than widely feared.

China has steadily emerged over the past 20 years as the hub of the region’s export sector.

Most Asian countries have trade surpluses with China, because they export components there, which are then assembled and re-exported to third countries throughout the world but predominantly to North America and Europe.

So China’s economy — which has remained substantially dependent on investment inputs and on exports — tends to set the pace. It also led the way to recovery after the 1997-98 Asian financial crisis.

Subir Gokarn, chief Asia-Pacific economist of ratings agency Standard & Poor’s, says “some members of the forecasting community have been making upward revisions for China’s 2009 growth. We have stayed with our previous outlook for now, based on data trends” — of growth of 6.3 to 6.8 per cent for 2009 — “but the fact that some analysts are persuaded otherwise may be a precursor of a change of direction”.

Daniel Melser, senior economist at rival ratings agency Moody’s, says the latest data “provides some evidence that growth may have bottomed” in the Asia-Pacific region.

“For many economies, January and February marked the nadir for exports,” he said. “A modest recovery has been apparent in March and April. While trade data is volatile, this is a very encouraging development.”

At the same time, though, Melser warns that “Asia’s problems have now grown much larger than just trade”, including a massive fall in capital expenditure, and “storm clouds gathering over the labour market in many countries”.

He says that with less US consumer-led growth, “there will be a diminished capacity for Asia to leverage its own growth”.

“The world after the crisis will be much less conducive to Asia-style export-led growth.”

And the restructuring of the Asia-Pacific economies to focus more on domestic demand and on service is proving a complex and lengthy challenge, given the extent of the region-wide political pressure to do what it takes to revive the export sector and its jobs.

Westpac senior economist Huw McKay says: “The deep financial system/household quagmire evident in key Western jurisdictions and in emerging Europe is just not present in Asia.

“The distinction between the balance sheet constrained West and the inventory constrained East is tangible.”

Sydney-based business analyst IMA Asia lifted its 2009 growth forecast for the Asia-Pacific region — excluding Japan — by 0.5 per cent a month ago to 2.9 per cent, chiefly due to continued domestic demand growth in China and India.

Then last week it raised its regional projection yet again, to 3.1 per cent, chiefly due to a slightly improved export performance by South Korea, and greater domestic resilience in Indonesia and The Philippines.

IMA managing director Richard Martin says the dominant story remains one of a massive contraction in export manufacturing. But “strong commercial links into China will play a critical role in determining the speed and strength of the recovery in parts of Asia”.

“Every government in the region is reporting a sharp drop in revenues, but most have been able to lift spending from reserves or a mix of foreign and domestic bond auctions. Relatively low public debt burdens and good fiscal track records have helped.”

Demand contraction is easing in this second quarter of 2009 as firms start to replace empty inventories with modest, last-minute orders.

Martin says the two best positioned markets are Australia, because of its resource exports to China, and Hong Kong, because of its services links. South Korea has already been benefiting from rising China demand and a depreciated currency, although the won has recently begun to rise again.

Most analysts are now forecasting that China will be joined, in continuing to grow its economy this year, by other especially populous countries in the region, which will also avoid recession — India, Indonesia, The Philippines and Vietnam.

Almost every forecaster is anticipating a return to growth by every Asia-Pacific nation in 2010.

And regional stability will be boosted, in the longer term, by the decision by finance ministers from the 10 members of the Association of South East Asian Nations, China, Japan and Korea, to create a $US120 billion emergency stability fund for its members by the end of 2009.

Trade Minister Simon Crean said last week: “We’re trading to a part of the world that is significantly still growing: China, India, parts of Southeast Asia. The challenge for Australia is to take advantage of that opportunity, to grab market share, to realise the resilience of our economy.”

In India and Indonesia, elections frame the context of the potential recovery.

The first round of Indonesia’s elections went off smoothly, during which support for the Democratic Party of President Susilo Bambang Yudhoyono, widely viewed as a reasonably sound economic manager, jumped from 7.5 to 20.5 per cent.

The share market applauded by rising 4.5 per cent as “SBY” seems set to retain the presidency, opening the way to faster reform and a stronger market.

Indonesia’s continued growth this year is expected to come, says IMA, from private consumption, election-related spending and the Government’s $US6.2 billion stimulus package.

Consumer confidence began to pick up in February.

Economic and market research company Datamonitor says the fall in vehicle production has reached bottom, and that “there appear to be pockets of resilience in the economy, with consumer confidence recovering swiftly”.

In India, the Government led by Prime Minister Manmohan Singh, also well regarded by economic analysts, has been returned with much greater support than anticipated.

Its backing was boosted by signs indicating that domestic demand had begun to pick up, illustrated by slightly higher motorcycle and car sales — which IMA viewed as “one of several indicators that have started pointing to a revival in business sentiment and industrial production by mid-2009”.

South Korea is struggling in the face of the export slump, with the ruling Grand National Party, now riven into two warring factions, losing all five by-elections last month.

But business and consumer sentiment are both picking up.

In Hong Kong, there are signs that a weak revival in local demand will emerge in the third quarter of 2009 despite rising unemployment, although a faster rebound in China would push the recovery further. IMA rates this a 40 per cent prospect.

Investors returned to the property market in March, lifting sales to 7710 apartments — well above the previous five months’ average of 4410.

Taiwan’s situation has changed rapidly for the better, especially since the doors were opened last month to Chinese investment — boosting the rapidly deepening links across the Taiwan Strait since President Ma Ying-jeou took office in Taipei a year ago. Negotiations towards an Economic Co-operation Framework Agreement with China are likely to start soon, reinforcing the positive trend.

The share market in Taiwan is up 45 per cent so far this year, leading a broader charge in the region, with Indonesia up 35 per cent, and Hong Kong, India, The Philippines, Singapore and Thailand all rising about 20 per cent.

Martin says: “This may well be premature, but it will help lift business confidence and assist with the transition from government-led growth to private-led growth” in the second half of 2009.

The Philippines has been partly buoyed by the resilience of remittances from its huge workforce overseas, especially from the Middle East, helping, for instance, keep car sales steady.

IMA notes the surge in President Gloria Arroyo’s political supremacy “due to her mastery of patronage and the handling of public finances”. As a result, her supporters may engineer a constitutional shift towards a parliamentary system, permitting her a second term in the presidency.

While Singapore has suffered more than most of its neighbours from the demand downturn in North America and Europe, it retains a fundamentally sound economy despite suffering from overcapacity.

A second stimulus package, focused on construction, is being weighed by the Government.

Vietnam is continuing to grow, in part because it started its development process so far behind much of the rest of the region, in part because it has recently been mainly domestic demand led.

It has taken China’s cue in its economic reform path, but lacks the capital to pursue Beijing’s immense stimulus programs, thus is considering a big bond sale to bolster growth.

Exports soared 48.2 per cent in February over the previous February — but overwhelmingly because of a one-off sale of gold.

ANZ says Vietnam’s economy has shifted to “the slow lane”. This is the pattern of the Asia-Pacific region as a whole, which has avoided the financial chaos of most of the West, but remains sufficiently dependent on exports to Western consumers to slow growth to a comparative crawl.

The return to growth has been undermined to an extent by the flight to safety in capital markets. Hal Hill and Greg Lopez say in the Australian National University’s East Asia Forum website that “perversely, capital has flowed back to the very countries that caused the crisis, owing to their perceived fiscal capacity to protect their financial sectors”.

They note that Malaysia and Thailand, which handled the Asian crisis in 1997-98 adroitly, “now look shaky, albeit for different reasons, neither particularly related to the global crisis” but everything to do with local politics, where stability remains crucial, especially in uncertain times.

May 16, 2009

In the past six months, our government and the Federal Reserve have struggled with the problems of homeowners devastated by the mortgage crisis.

Our government provided emergency funds to Fannie Mae, Freddie Mac, Citigroup and others. The stimulus bill and the TARP provided some relief for many other banks and the automotive industry as well.

All relief efforts seemed to institutionalize the victim mentality currently gripping our nation.

While the bailouts of the automotive industry and the banks upset many and providing relief to defaulting homeowners seemed reasonable to some, the shareholder has received no such sympathy. In fact, the scorn felt for shareholders and their losses in the equity markets was clearly felt.

It seems that neither labor, management nor our government understands that without safeguards to provide for a rule of law for all parties to an economic transaction, the flight of capital from our markets will spell disaster in the years to come.

The problem goes beyond a legal framework, however, to a matter of ethics and justice to shareholders as well as labor and management. Demonize the shareholder and do not be surprised by the lack of capital formation to fund our nation’s growth.

One can debate the merits of the bailouts, but in the long run a bailout is not a bailout at all. It’s a feel-good temporary answer, but certainly not a long-term solution to an economic crisis. Whenever one party to an economic transaction benefits to the detriment of another due to government intervention, the cost to society will increase significantly over time.

Shareholders bore the brunt of the last debacle and have for years. The flight of capital caused by government intervention will become apparent very shortly. By then the negative consequences of failing to understand the balance of all economic interests in our economy may be irreversible.

Many may feel that the shareholder should pay because that is what equity risk means. However, when management and shareholders and boards of directors no longer operate in unison, the shareholder, when left unrepresented, will seek substantially higher risk premiums and greater control going forward.

When boards of directors view excessive compensation as a company cost rather than a shareholder cost, the effects of a flight of capital and a loss of trust will be profound.

Unfortunately, once management, labor and government realize the damage they have done, the problem will be much more severe and will signal the decline of the American experiment. The anti-shareholder attitude in the marketplace will ensure that shareholders and their capital will flee U.S. markets. It happened in Great Britain and it can happen to us. Nations can and do fail.